Chapter 9: Stock Valuation

What is the general formula used to calculate the price of a share of a stock? What does it mean?

Ted McKay has just bought the common stock of Ryland Corp. The company expects to grow at the following rates for the next three years: 30 percent, 25 percent, and 15 percent. Last year the company paid a dividend of $2.50. Assume a required rate of return of 10 percent. Compute the expected dividends for the next three years and also the present value of these dividends.

Merriweather Manufacturing Company has been growing at a rate of 6 percent for the past two years, and the CEO expects the company to continue to grow at this rate for the next several years. The company paid a dividend of $1.20 last year. If your required rate of return is 14 percent, what is the maximum price that you would be willing to pay for this companys stock?

4.Rhea Kirby owns shares in Ryoko Corp. Currently, the market price of the stock is $36.34. Management expects dividends to grow at a constant rate of 6 percent for the foreseeable future. Its last dividend was $3.25. Rheas required rate of return for such stocks is 16 percent. She wants to find out whether she should sell her shares or add to her holdings.

a.What is the value of this stock?

b.Based on your answer to part a, should Rhea buy additional shares in Ryoko Corp? Why or why not?